Interest rates are staying put - at least when it comes to the Internal Revenue Service (IRS). The IRS has announced in Revenue Ruling 2018-18 that interest rates will remain the same for the third calendar quarter (beginning July 1, 2018) as they did for the last quarter.
The rates for the third quarter for individuals will be:
- 5% for overpayments; and
- 5% for underpayments.
Under the Internal Revenue Code, interest rates are determined on a quarterly basis. For individual taxpayers, the overpayment and underpayment rates are calculated using the federal short-term rate plus 3%. The most recent interest rates are computed from the federal short-term rate determined during April 2018.
So what does this mean for you? It all boils down to timing. If you owe money - or if you are owed money - those rates affect your totals.
Some common penalties that affect individual taxpayers include:
- A failure to file penalty may apply if you do not file by the due date. The failure to file penalty is generally 5% of the unpaid taxes for each month that your tax return is late (but not to exceed 25% of your unpaid taxes). The penalty begins to accrue the day after the due date. If your return is more than 60 days late, your penalty is the lesser of $210 or 100% of the tax owed.
- A failure to pay penalty may apply if you do not pay all of the taxes you owe by the due date. The failure to pay penalty is generally .5% of your unpaid taxes for each month or part of a month that your payment is late. Like the failure to file penalty, the penalty begins to accrue the day after the due date.
- If a failure to file penalty and a failure to pay penalty both apply to the same tax owed, the maximum amount charged for the two penalties is 5% per month.
Penalties can add up quickly, so it's best to take steps to avoid them if possible. Since the failure to file penalty is more than the failure to pay penalty, you should file your tax return on time - even if you can't afford to pay the tax in full - to avoid the penalty.
If you get socked by a penalty, and you think that it's unfair, it might be worth asking the IRS for a waiver. In some circumstances, you may qualify for a penalty abatement if you can demonstrate reasonable cause.
As you pay down your debt, the IRS applies those payments to the tax due first, then to any penalty owed, and finally, to interest. Interest compounds daily and continues to accrue until you've satisfied your obligation. Since the imposition of interest is statutory, it's unusual for the IRS to waive interest even for reasonable cause.
So, if you're owed money, and you don't get paid by the due date, the same rules should apply, right? Unfortunately, no. The IRS has deadlines, too, but the rules for the agency are little more relaxed. If the IRS doesn’t issue your refund right away, they get a breather. Once the clock starts, the IRS typically has 45 days to pay your refund before interest accrues. That means that you're not entitled to interest if the IRS gets your refund to you before the 45-day deadline assuming that your return was complete, signed and mailed to the correct address.
For purposes of figuring the deadline, time begins to run on Tax Day or the date you file your tax return, whichever is later. That means that even if you file early, the clock won't start running until Tax Day. For 2018, Tax Day was April 17, which means that the 45-day period ended on June 1.
And in don't-shoot-the-messenger news, there's one more thing: Interest is interest. If the IRS pays you interest on money you're owed, it's considered income, and yes, it’s taxable.